Headlines Don't Drive Markets

Headlines Don't Drive Markets

Posted on November 27, 2017
11/27/2017

Market State 1 Bullish/Rational (61 trading days): We are in a low risk/bullish market environment. The most recent three-month run in the equity markets has been very efficient and orderly. The 61-day streak, in Market State 1, speaks volumes. A 3% or 4% correction, from the peak, is typically enough for a shift to Market State 2 from Market State 1. Please review last week’s update for an in-depth review of the characteristics of Market State 1 and an overview of the other market environments.
 
Canterbury Volatility Index (CVI 29):  Volatility, remains extremely low as the equity markets continue to crawl to higher levels. As I have discussed many times before, low volatility is a weapon of the bull. There is no such creature as a bear market coupled with low volatility. Another characteristic of low volatility is a lack of market response to “low probability-high impact world events.” Surprising events can have a major short-term impact on the markets when a bearish market environment or parabolic bubble is in place. On the other hand, events, regardless of how unexpected, tend to have little impact when markets are stable.
 
It is rare to experience extreme low volatility in the equity markets. It is even more rare to see extended periods of extremely low volatility. Canterbury defines “extreme low volatility” as a reading of CVI 45 or lower. The S&P 500’s current streak of volatility below CVI 45 has now reached 229 trading days, only 27 trading days short of the second longest streak of low volatility in history.
 
Below is an excerpt from the 10/23/17 blog on extended periods of low volatility. There are many false assumptions about what drives markets. The existing market environment trumps unexpected, unique events. For example, the worst days of WWII.
10/23/17 Blog post:
Canterbury’s records on volatility go back to 12/30/1896 (almost 33,000 trading days). During that time, there have only been a handful of days that have seen volatility as low as it is today.
 
Longest streaks of consecutive trading days with the Canterbury Volatility Index at (CVI 45) or lower:
Streak 1: 333 trading days (CVI 45 or lower) ended on June 10, 1965.
Streak 2: 256 trading days (CVI 45 or lower) ended on March 12, 1945.

 
Surprisingly, the second longest period of low market volatility occurred during the worst days of WWII. In fact, the streak of “extreme low volatility” ended two months before D-Day. Ironically, the most recent market volatility low occurred two trading days before Donald Trump won the Presidential election. Bridgewater Associates, one of the world’s largest hedge fund” called for a 2000-point decline on the Dow Jones Industrial Average in one day if Trump won the election. Mark Cuban, who often professes himself as one of the smartest businessmen and investors ever, predicted a market crash if Trump won.
 
Bottom Line:
  • Don’t worry about the news.
  • Don’t try to make predictions.
  • Don’t take advice based on subjective arguments.
  • Don’t get emotional about markets.
  • Don’t go with your “gut feeling.” Markets are counter-intuitive.
  • Don’t buy into the risk/reward myth. Portfolio management is not about accepting more risk to get a higher return over time.
    • Risk is defined as volatility (high volatility is a bear market characteristic) and declines in value (drawdown). How does losing money help produce higher returns?
 
11/27/17
Canterbury Portfolio Thermostat Internal Benchmarks:

Portfolio should maintain in a low risk Portfolio State:
Portfolio State: Efficient - Low risk - Bullish  



Source: CIM

Portfolio should maintain low and consistent volatility:
Portfolio Volatility (CVI 26): Low Risk - Bullish
 
Portfolio should limit declines to normal “corrections” of -8% to -12%:   
Portfolio maximum decline (trailing 12 months): -3.4% - Objective Met
 
Portfolio should have risk reduced by 30% or more through diversification:
Portfolio’s Benefit of Diversification = 35%* - Objective Met
 
The current diversification among the portfolio’s holdings meet all of the, internal benchmarks’ requirements to qualify as an “efficient portfolio” based on the today’s market environment: Objective Met
 
*Example - Benefit of Diversification (B of D):
Let’s say that the portfolio holds 10 ETFs. Each ETF has volatility of CVI 100. The average volatility would be CVI 100. Let’s say that the portfolio’s risk was reduced as a result of the diversified holdings moving different from each other. In this example, the portfolio has volatility equal to CVI 50. The net percentage Benefit of Diversification (B of D) is 50%.
  • Average of 10 Portfolio hold holdings = CVI 100
  • Volatility of portfolio = CVI 50
  • Benefit of Diversification = 50% [1-(50/100)]
 
Canterbury Investment Management: Tom Hardin

More About Tom Hardin
As Chief Investment Officer, Tom has more than 30 years of experience in the investment management industry and has a broad breadth of knowledge. He is known as an innovator, educator and has been revolutionary in the advancements of portfolio and risk management.


Every effort was used to provide accurate data and mathematical calculations to provide, what we believe to be, accurate results. Canterbury Investment Management, LLC, and its principal owners, make no guarantee of completeness or accuracy of data or calculations as well as conclusions of any statistical data or information contained in the simulation illustrated on this page. Past results or performance is in no way a guarantee of future results.